Introduction

Although a typical liability insurance policy does not include an express promise to investigate a claim, statutes, regulations and common law impose a clear and stringent duty upon a liability insurer to establish proper cause before it may justifiably denying a claim. Shortcoming in an investigation are construed strictly against the insurer.

No Contractual Promise to Investigate

A standard liability policy typically makes no express promise to investigate any claim. At most a standard CGL policy says that the insurer “may, at our discretion, investigate any ‘occurrence’.” Accordingly, the legal basis for an insurer’s duty to investigate is found elsewhere – in statutes, regulations and case law.

Statutory and Regulatory Duty to Investigate

A well established body of law trumps the void left in a standard liability contract. Insurers do have a strict statutory and regulatory duty to investigate. An insurance statute requires insurers “to adopt and implement reasonable standards for the prompt investigation of claims.”[1] Insurance regulations require insurers to investigate. “Every insurer shall conduct and diligently pursue a thorough, fair and objective investigation and shall not persist in seeking information not reasonably required for or material to the resolution of a claim dispute.”[2] “Upon receiving notice of claim, every insurer shall immediately, but in no event more than fifteen (15) calendar days . . . begin any necessary investigation of the claim.”[3] “Every insurer shall adopt and communicate to all its claims agents written standards for the prompt investigation of claims.”[4]

Common Law Duty to Investigate

Recognition of an insurer’s duty to investigate is essential to the impliedduty of good faith and fair dealing.[5] The insurer must initiate a thorough investigation into all possible bases which support a claim and may not focus only on facts which justify denial. Doubt must be resolved in favor of the insured. Shortcomings in the quality of an insurer’s investigation may not be justified by hindsight. Also the duty to investigate is not diminished simply because a policyholder has sued its insurer.

Triggered by Notice

“[W]ithout actual presentation of a claim by the insured, there is no duty imposed on the insurer to investigate the claim.”[6]

The failure to investigate a claim thoroughly may breach the insurer’s implied covenant of good faith and fair dealing. “[A]n insurer may breach the covenant of good faith and fair dealing when it fails to properly investigate its insured’s claim.”[7] To protect the insured’s peace of mind and security, “an insurer cannot reasonably and in good faith deny payments to its insured without thoroughly investigating the foundation for its denial.”[8] The adequacy of the insurer’s investigation is “(a)mong the most critical factors bearing on the insurer’s good faith.”[9]

Rationale

“Insureds seek protection against calamity and purchase insurance to buy peace of mind and security. . . . The insurer has a duty to protect the insured’s interests as if it were its own, and it may not deny a claim without thoroughly investigating it.”[10] An insurer’s duty of good faith and fair dealing requires an insurer to give “careful and serious consideration to the interests and position of the assured. . . . The carrier cannot exclusively preoccupy itself with its own interests but must also weigh the real interests of the assured.”[11] “[G]ood faith requires [the insurer] to consider the interests of the assured equally with its own.”[12]

Adequacy of Investigation

“The insurer may not just focus on those facts which justify denial of the claim. If an insurer unreasonably refuses a claim, it is liable for breach of the covenant of good faith and fair dealing inherent in every insurance policy.”[13] An insurance company’s duty to conduct a thorough investigation may include the duty to interview witnesses with significant information.[14] “[The insurer’s] figurative hiding its head in the sand (or hiding adverse reports) is not a law-sanctioned approach to reasonable investigation and performance of its duty.”[15] “When investigating a claim, an insurance company has a duty to diligently search for evidence which supports its insured’s claim. If it seeks to discover only the evidence that defeats the claim it holds its own interest above that of its insured.”[16]

“For the insurer to fulfill its obligation not to impair the right of the insured to receive the benefits of the agreement it is essential that an insurer fully inquire into possible bases that might support the insured’s claim.”[17] “[I]t is essential that an insurer fully inquire into all possible bases that might support the insured’s claim. [The adequacy of investigation is among] the most critical factors bearing on the insurer’s good faith. The insurer’s duty to investigate is not limited to the facts and coverage theories advanced by the insured. Its duty extends to whatever facts or coverage theories would support recovery under the policy. The insurer must fully inquire into possible bases that might support the insured’s claim.”[18] “An insurance company may not ignore evidence which supports coverage. If it does so, it acts unreasonably towards its insured and breaches the covenant of good faith and fair dealing.”[19] “An insurance company may not ignore evidence which supports coverage. If it does so, it acts unreasonably towards its insured and breaches the covenant of good faith and fair dealing.”[20] “The genuine dispute rule does not relieve an insurer from its obligation to thoroughly and fairly investigate, process and evaluate the insured’s claim.”[21]

Burden of Proof

To establish bad faith liability, the policyholder must also “prove that a reasonable investigation would have uncovered evidence to establish coverage or a potential for coverage.”[22]

Constructive Notice

An insurer which fails to conduct an adequate investigation may be charged with knowledge of what it would have learned had it fulfilled its duty. “Every person who has actual notice of circumstances sufficient to put a prudent man upon inquiry as to a particular fact, has constructive notice of the fact itself in all cases in which, by prosecuting such inquiry, he might have learned such fact.”[23] “[T]he law will charge a party with notice of all those facts which he might have ascertained had he diligently pursued the requisite inquiry.”[24] “[T]he insurer is charged with constructive notice of facts that it might have learned if it had pursued the requisite investigation.”[25] “Under the principle of constructive notice, the insurer should be charged with the knowledge it would have gained by making necessary inquiries.”[26] “It cannot seriously be disputed that had [the insurer] diligently conducted an investigation, it would have discovered the [other] policy. Had it timely notified [the policyholder] that the [other] policy existed, she undoubtedly would have made a claim pursuant to this policy.”[27]

No Hindsight Rule

An insurer which fails to adequately investigate its duty to defend may not attempt to justify its breach “by hindsight.”[28] The reasonableness of the insurer’s denial of a claim is determined by the information known or reasonably available to it at the time of denial. “[T]o see if there was any unreasonable conduct by the Company, it is essential that no hindsight test be applied. The reasonable or unreasonable action by the Company must be measured as of the time it was confronted with a factual situation to which it was called upon to respond.”[29] “[T]he duty to defend is determined by the information possessed by the insurer at the time it refuses to defend, not by information subsequently obtained.”[30]

Waiver may be imposed on an insurer that fails to conduct an adequate investigation. “If a ground for asserting lack of coverage under an insurance policy could have been discovered by the insurer through reasonable investigation, that ground is waived if the insurer fails to state it at the time a request for coverage is tendered by the insured; consequently, the insurer may not belatedly raise that ground if the reason upon which the insurer initially denied coverage is found to have no merit or if the insurer did not deny coverage at the outset. Application of the waiver rule to disputes over whether coverage exists is designed as an incentive to compel an insurance company to fulfill its duty to thoroughly investigate a claim before denying coverage.”[31] “[A]t the time it denies coverage an insurer must state all grounds for noncoverage which are reasonably discoverable.”[32]

Suing Insurer Does Not Excuse Duty to Investigate

“(A)n insurer’s duty of good faith and fair dealing does not evaporate after litigation has commenced. To hold otherwise would effectively encourage insurers to induce the early filing of suits. . . . The policy of encouraging prompt investigation and payment of insurance claims would be undermined.”[33]

Policyholder Response to Denial

If an insurer has conducted an investigation and properly determined that it has no duty to defend, the burden may shift to the policyholder to alert the insurer to an amendment to the complaint or the assertion of new extrinsic facts that may trigger a duty to defend. In one case, “most of this alleged extrinsic evidence of a potential claim for property damage arose after [the plaintiff]’s complaint was filed and tendered to [the insurer] for defense. [The insurer] was entitled to base its determination of whether or not to accept the tender on the facts available to it at that time. Once it determined on the basis of the lawsuit itself and the facts known to it at that time that there was no potential for coverage, it did not have a continuing duty to investigate or monitor the lawsuit to see if the third party later made some new claim, not found in the original law suit. Had any statements in the letters from [the plaintiff’s] attorney or in discovery actually raised a potential claim for property damage covered under the Policy, [the policyholders] could have notified [the insurer] at the time. [The policyholder] never brought any of this information to [the insurer’s] attention. In the absence of any new tender of defense from [the policyholder], [the insurer] had no way to know of these new extrinsic facts, and no obligation to find them out by itself.”[34]